Matching concept in accounting principle ensures that income and expenses are matched in the same period. Therefore, when preparing financial statements, accountants ensure they match income and expenses related to the financial year.
Applying the matching concept
The matching concept is applied in the statement of profit or loss. And it follows the accrual accounting principle rather than the cash basis method. Therefore, the timing of transactions is necessary to apply this concept.
In application, income and expenses that relate to a particular period are matched in the profit or loss account. When a transaction or an amount is for more than one period, it is prorated for the reporting periods. Balance is treated as a current asset or liability in the balance sheet. As a result, we can say that the use of matching concepts also leads to estimates.
In organisations, management reports are prepared every month. However, transactions may be for another month(s), but the cash was received in the current period. An example is when a client/customer pays for a service/item in advance of their delivery or completion of their performance obligation. This can't be recognised as revenue in the month the payment was made but when the item is delivered or services rendered.
Therefore, the matching principle expects that the revenue will be recognized when the obligations are fulfilled. Therefore, the revenue is deferred as a contract liability in the balance sheet.
The concept is also a guide in preparing accounting standards. Various IFRS standards comply with the matching accounting concept. An example is IAS 16. The aspect of depreciation complies with the matching principle. Property, plants, and Equipment (PPE) are used daily to generate revenue whether actively or passively. Therefore, there is a need to allocate part of the cost every month as depreciation expenses and match it with the revenue earned.
Specific areas of the Matching concept application
Provision for impairment loss
An application of the matching concept is provisions for credit loss. IFRS 9 explains that financial assets can be impaired immediately if they are in the company's books of accounts. This is because of the risk involved. For example, after selling to a customer on credit, it is possible that the goods delivered may be stolen before they are sold and the customer (account receivable) will find it difficult to make payment.
To ensure that this risk is provided for, a provision for credit loss should be made to be matched with the revenue earned from the sale of goods to customers on credit terms in the month they occur.
Depreciation Expenses
Depreciation expenses apply the aforementioned concept. Depreciation is charged to profit or loss so that the revenue generated from the use of the PPE is matched accordingly. To illustrate, in making bread, machines and ovens are utilised. As these assets are used daily, they wear and tear. The revenue earned from the PPE should be matched with the wear and tear of the assets through depreciation expenses.
Contract Liability
An entity may receive cash from a customer before meeting the performance obligations. For example, the customer might have paid for the item in June, but the item was not ready at the end of June, so it wasn't made available to the customer as agreed. In this case, revenue cannot be recognized or matched with the relevant expenses. Therefore, it is treated as contract liability in line with IFRS 15. In July, when the goods are delivered, it is recognized as revenue.
To conclude, the matching concept is a generally accepted accounting principle (GAAP) used by accounting professionals in deciding the transactions that should be in the profit or loss account at the end of a period. Just as in accrual accounting, the timing is important. Only transactions that are within a specific month are posted and recognized in the period.
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